Stress Testing Your Multifamily Real Estate Investments: Preparing for the Unexpected

"If you can't write why you're investing in a stock on one page, you shouldn't invest in the d

-Warren Buffett

To me, this the stress test is the most important part of investing.

It's much more important than the projected returns in my opinion.

This is where you find out the risk of the deal. You try to figure out every way you can break it.

The mistake a see too many people make is they restrict themselves to thinking about worst case scenarios in rows and columns. They use a spreadsheet so that they can come up with a number for their stress test.

This is often a big mistake. For one, it gives the person a sense of false certainty that they have checked off the stress test portion of the underwriting and therefore don't have to think about it again. Or, when they think about it, they go directly to the spreadsheet instead of other possible scenarios.

Secondly, problems don't always come in rows and columns. In boxing, it's not the hardest blow that knocks you out. It's the one that hits you when you don't expect it.

This is why you need a free flow platform to do your stress test. The best two are a blank piece of paper or a whiteboard.

Now it's your job to do the most important thing in investing that so few do at a deep level. Let yourself stop truly think.

This is the separator between investors. It's where the art of investing comes from.

When you find a problem, let it lead to another problem and another. With each problem, figure out how severe this would have to be to break the deal? What if multiple problems were combined? Break it down numerically and write wherever makes sense on the piece of paper.

With each problem you solve, you get to know the deal better. This is really the whole purpose of underwriting. Getting to know the deal a deep level so that you can determine a price, business plan, and methods of decision making.

Eventually, you will know exactly what can break the deal to the best of your ability.

Now that you've determined this, it's your job to evaluate the probability of this occurring and whether it's worth the risk for the return you're getting. If the probability is too high or determined on things predicated on future projections, either restructure how you do the deal or walk away from it.